Thursday, 10 April 2008

Shark attack

Today's interest-rate reduction illustrates just how distorted economic policy has become. Inflation is rising; the exchange rate is dropping like a stone; and economic growth, at least for the moment, remains comparatively strong. In short, as far as the real economy is concerned, there is no justification for reducing rates.

Yet, interest rates are coming down. In a straight contest between the real economy and the financial sector, there is only one winner. Banks are screaming for lower rates. If the banks want something, the Bank of England is invariably prepared to give it to them.

While the MPC was cutting rates, mortgage lenders were hiking them. Today, the Alliance & Leicester pushed rates up across their entire mortgage range between 0.2-0.35 percent, while the Nationwide raised rates on their fixed-rate mortgages by between 0.12-0.32 percent.

This combination of lower base rates and higher lending rates give us a clue as to what is really going on. The Bank of England and the financial sector are trying to increase spreads in the hope of boosting profitability. Savers will receive lower interest payments on their deposits, while borrowers will pay more, assuming that they can find a bank prepared to lend money.

This policy is in effect a backdoor bail out. Savers will now have to subsidize the banks and their stupid lending decisions. Default rates are about to rocket and banks need the extra cash to cover the losses.

This crisis revolves around distributional question; who will pay for the huge losses now sitting on the balance sheets of the banking system? Today, the banks moved closer to their goal of ensuring that they pass the costs of this crisis onto the rest of us.

9 comments:

Yes, exactly right and quite expected. When banks are in trouble the BoE steepens the yield curve for a stealth recapitalisation.

'course it'll be interesting to see what Trichet does at the ECB. Like King he's been talking the talk but is he going to capitulate too?

Have you ever tried to tie this in to the usual political ideologies of Left and Right? Pretty hard to do. Central banking is pretty much the most important thing in the country (outside of war or revolution)and yet Lefties and Righties are unable to talk knowledgeably about it.

Just last weekend I was talking to a Leftie post-doc Uni lecturer (in Sociology). He literally did not understand inflation, money supply, how money is created to pay for government spending, how GILTs are deferred tax obligations etc.

Literally an "intellectual" who is supposed to research and teach on society, who is a self-confessed lefty activist and he couldn't string together a coherent sentence on this most important of issues.

To him everything has to be immediate and proximate, like pro-Tibet marches, minimum wage, unionisation etc.

It is hard to figure out left from right. Labour is now the party of finance and social workers. In many respects, the tories are the more radical option.

I am working on a post on the ECB and their bail out. At the moment, I am trying to figure out what they are up to. However, the most immediate observation is the massive capacity that the ECB has to bail out the euro-fringe (Ireland and Spain). It has a massive balance sheet, and seems to magnify the limits of the BoE's options.

I'll be interested to read this. As I understand it, when the poor countries (Spain, Ireland) joined the EU they benefited from a sudden massive drop in interest rates, which pumped their housing bubbles. That was compounded by London / UK money seeking holiday homes.

I'd really like to see you address this issue of money and political ideology, mind. I don't go for conspiracy theories (why bother, the central banking fraud is an open secret) but here's a great conspiracy theory:

Imagine the bankers of the world get together with the governments. They say "Let's fill the public arena with debate over social issues, embryo research, minimum wage other direct in-your-face topics that get people really excited. And while they are letting off steam over that, we'll steal all their wealth"

I despair when I talk to social theorists who want to bleat on about goverment policy without understanding the system that creates / steals the money to pay for it.

However, I find it fascinating that the discredited idea that monetary policy can, in the long run, generate more wealth. In the short run, it can have a powerful effect on output, largely through misaligning prices, particularly asset prices. However, the evidence that more money creates more inflation is about as sure a thing as you will get in this world. Yet, how often do you hear anyone in politics say money is the root of inflation?

BTW, Ron Paul doesn't count. He might be right when he speaks, but somehow, no one takes him seriously.

Where were the Tories whilst all this was going on? It beggars belief to think that there was such a buffoon at the heart of government with seemingly little grasp of fiscal/monetary policy and they weren't taking him to task over this. The budget defecit has been growing for years, house prices were way out of control long ago - the IMF has been warning about them since 2003, and he changes the inflation index with about as much thought as changing a pair of socks. Oh I forgot, they were using their expense claims to build up their little London BTL pension schemes. No conflict of interest there then.

I'm in agreement. I was having a discussion with a colleague today. He's a chartered accounts who used to work in banking and is now in fund management (not front-office, mind).

Oh the trouble I had trying to explain how money is created, what fractional reserve lending is, and why inflation is a technical term that does not simply mean "up".

I actually had to argue the point with him that printing more money is not the same thing as creating more wealth. I literally had to bang on for five minutes about paper and ink versus factories and products before he was able to comprehend the difference.

People are THAT enmeshed in the webs of deceit spun by modern economics.